Today’s single trade was on Qualcomm (Nasdaq: QCOM). I was watching the stock because I saw it on Wall Street Warrior, a blog I’ve been enjoying the last couple weeks. I agreed that the daily chart looked good, and saw a long setup I liked @ 38.60 in the morning when the markets were crawling up.

Even as jittery as I’ve been about market turns, I let this one fall down all the way back to my entry price, after I had been in the stock almost 20 minutes. That’s the red candle right after my entry candle in the chart below. I had a really strong urge to just exit at break-even, and look for other trades (such as BWNG or CRM, which were setting up). But, I decided that the relatively slow movement of the stock, compared to the large number of shares trading, was just messing with my mind. This thing was seriously dragging its feet! I had to remind myself, too, that my entry wasn’t a break of resistance, so it wasn’t going to be as forceful a move as I’m used to. I decided to tighten my mental stop, but persevere. That paid off, and the fact that it didn’t ever fall below my entry gave me some confidence as well.

Then, I got to a decision point. I was leaving for lunch, and I was up about 1 R… put in a stop? put in a trailing stop? take my profits? If you read the site, you probably know by now where my bias is. I got out. Less than a minute after my sell order filled @ 38.89, the darn thing shot up again and didn’t really stop until it hit the 39.07 area. So, I missed maybe 20 cents of potential profit, per share. However, as you’ll see in the chart (click to enlarge)…

… I’d have been stopped out within an hour if I had stayed in, probably for less profit.

Moral of the Story
In my mind, there are trending markets, and there are choppy ones. This is a choppy one, and has been for at least a month. My bias lately has been to take my profits early and often in this choppy environment. I haven’t had any big profit trades that way, but on the other hand, my last losing trade was on August 22nd. So, there’s a trade-off everyone has to make, in terms of their risk appetite.

Stocks Mentioned In This Article
Stock	Links
QCOM	| |

I’m going to start looking hard at trading stocks as they run up to the target numbers in my screens, rather than waiting for the actual target crossing. You see, I’m almost finished with an article about how to judge the overall quality of your trading, and my trading quality is suffering in at least one area: I don’t trade enough. When I finally finish writing up the article, it’ll be obvious how big a deal this is.

So, I know I say I want to trade more, in lots of posts. But, since I’ve been making money, it hasn’t felt very urgent. Now, I have seen some numbers that make it more urgent-looking. So there, that’s your teaser for the upcoming article. :-)

Without thinking about it too hard, it seems like a natural extension of my current trading would be to trade the runs up to my trading targets. This is because there are at least two cases where I can make more winning trades from the same scans: (1) when the stock runs to the target and reverses, and (2) when the stock runs up to the target and pushes through it without setting up near the target. Case #2 is one I see a lot, when I’m having to pass on my intended trades due to lack of a good entry. Plus, it just seems like when a stock is near a resistance level, it wants to test it. That may just be a figment of my imagination, but it seems like they test them more often than they don’t. If I’m right, that makes it a tradeable phenomenon.

So, this should be a pretty simple adjustment to try to ease into, over the next few weeks. I’ll see if I can’t get my trade count up some, without hurting my win % and overall expectancy too much.

As for today, I issued two orders that didn’t fill, and took one quick 0.3 R scalp that’s not worth showing a chart for. So, that’s one trade per day so far this week… not great.

My one trade today was in Rackable Systems, Inc. (Nasdaq: RACK), for 0.72 R. I thought the setup was fantastic. I was watching for a break of 28.40, and the stock set up with a narrow-range candle just under 28.35. Great! It had been hovering in that area for 45 minutes. Even better!

But, as soon as I made this trade, I didn’t like it. Several red flags immediately went up:

• My market order took several seconds to start filling. Not that unusual on a break of resistance, but not what I like to see.
• My order filled in a trickle of 100 share increments, for an average basis of 28.46. An average basis a full 11 cents above my desired entry. The 100 share increments warn me that I might be in a crowd of tiny speculators, and no big money is participating.
• Because my basis was higher than I anticipated, in order to hold to my desired risk amount, my stop would have to be higher than I wanted. You can see on the chart, my stop is not quite below the previous candle. Had the stock not shot straight up, I would have eaten the commission and sold off enough shares to put my stop back where I wanted it.
• The stock shot up nearly 2% in a couple minutes. Too much, too fast, for my tastes.

So, when I hit 28.71, which was my 1 R profit point, in less than 2 minutes, I thought that was enough of a gift. I decided to get out. As I feared, my market order again executed in 100 share increments, across a nine cent range! My average exit price was 28.64, leaving me with less than 1 R profit. The chart (click to enlarge):

I was also a little concerned about what I hope were bad tick data, but which I’ve seen from multiple chart sources now. On my entry candle, you can see that shares traded around 28.06. If I had a stop in the market, that might have taken me out. A few bars later you can see the print up in the 29.90’s. After Ugly’s misfortune with crazy price action, I am a little nervous about these anomalies! Probably too nervous, but still, I am noticing them a lot more now.

More and more after this summer’s trading, I believe there’s a lot of merit in taking your money out of harm’s way as quickly as possible. In some respects, that’s what daytrading is all about, after all! Had I been a hold-til-the close guy on this one, for instance, I would have been stopped out for either a loss or break-even. At best, I would have made the same profit I did in two minutes, only it would have taken two hours. If the fills weren’t so sloppy, I would have had closer to 1.5 R on the trade, which is more than good enough to make a living, with my win rate.

I am a little disappointed with myself, though, for not shorting the stock during the market downturn in the afternoon. There was a decent setup for that under the 2:00 candle. It would have been another quick profit that I would have bailed on at 1 to 1.5 R. Most stocks I was watching discarded all their gains for the day in the early afternoon. If I had had the guts to short just about anything, I would have made a lot more money today.

Stocks Mentioned In This Article
Stock	Links
RACK	| |

FYI in case there’s some of you that don’t read the StockTickr Blog, I posted my first article for them last night. It’s a different kind of article for me… a single-stock analysis. Lemme know what you think. If you like it, and have a favorite stock you’d like analyzed in a similar fashion, just ask.

The article is here: Devon Energy Corp (NYSE: DVN) Short Term Analysis.

Stocks Mentioned In This Article
Stock	Links
DVN	| |

A difficult week for me, in terms of finding trades I wanted to take. I found four, though. First the stats:

I know I say this about every week and every month, but I would really like to be making more trades than I do. I’m still just not seeing a lot of charts I can really get behind. In addition to these four trades, I had two others where a limit order did not get filled. So, I wanted to trade 6 times, but that’s it. (though it doesn’t matter, my ego demands that I mention that all 6 would have been winners).

My other big goal, letting winners run, is still on hold pending further review. I think it fits my personality better to pick profit targets, rather than try to hold til the close. I may attempt to make that part of my pre-trade routine, and see how that works for me.

Consistency
Obviously, I don’t plan to have 100% win rates that often. But, as I mentioned in my Monday post, I do value making consistent profits over maximizing my overal gains. Drawdowns just don’t agree with me. It’s been a theme of many of my articles on risk of ruin, etc (which are indexed on the Best of MtM page). I need to collect my thoughts and write up something about consistency in trading. Among other things, it would explain why I really want to be making more trades each week. But for now, I can just show you the risk-multiple P/L curve since I started daytrading again (click to enlarge):

That’s a pretty low-stress curve, I think. It got flat at one point, but it never really dropped much. The largest trade on that graph only made twice my risk, though. So, it’s just boring, consistent small profits, trade after trade. That’s the kind of trend I want to see continue. A different trader may prefer a different kind of line. The more risk you can sleep through, the larger the potential profits you can make. It’s just that word ‘potential’ in there that nags at me!

Anyway, I’m happy to finally also be getting into the range where the stats are meaningful (close to 30 trades in this data, now). The expectancy per week is interesting and all, but you have to keep in mind that the sample size was only 4 trades! That makes it a pretty noisy measurement.

If only I had been keeping track of $ instead of R, this would have never happened! Good thing I’ve got lots of ads on my site. :-)

Seriously, my broker is not healthy right now, and earlier I had general internet connectivity issues… Looks unlikely that I’ll be able to make any trades. I’d have been extra careful on a multi-witching day, anyway.

So, you’ve just shut down your trading platform after a long day of slugging it out in the markets. You’ve tallied up your gains and losses, wiped the sweat from your forehead, and are ready to relax. But before you get too settled, let me ask you, were your trades any good? Not your trading as a whole, mind you, but your individual trades. How would you answer that question? I bet a lot of beginning traders’ first instincts lead them astray on this one. So, let’s talk about it.

(If you want to play along, stop and decide how you would answer the question before reading on. If you don’t want to play along, I won’t hold it against you. After all, I’m just some text on your screen, surrounded by clever, topical advertising.)

Is a trade good because it made a lot of money? That sure feels good, doesn’t it? But, come on, I wouldn’t be writing an article if it were that easy, would I?

“I get it,” you’re thinking, “You’re one of those R-zealots! So you think a trade is good if it made a large R-multiple.” Actually, I don’t think that’s a good answer, either. What if you got short a stock just before news breaks that the CFO and CEO were found in a bizarre joint suicide, surrounded by shredded financial documents and a baby goat? You’d likely make a lot of money, and a large R multiple. But, that had nothing to do with your knowledge or skill. Unless it was your goat, maybe.

Well, let’s try… is a trade good if the stock did what you expected it to? No way. Unless you think you are trading via psychic powers, don’t grade a single trade on whether the stock acts like you predicted. Stock trading is a probability game. Would you say you did a bad job if a coin comes up tails? Then, never tell yourself you did a bad job because a stock happens to move against you this time.

Hmm… Good fills on the orders? Nope. Got out at the top? Irrelevant. Performance relative to the S&P, or risk-free rate? Now you’re just getting fancy.

The fact is, there are lots of ways to characterize the aggregate performance of a large sample of trades. It’s very important to keep track of your overall expectancy and risk profile, for example. It can be instructive to note if you are often leaving lots of profit behind, or underperforming the indices, or getting lots of sloppy fills, etc. But, all those considerations are meaningless when you just want to judge a trade or two.

What Really Makes a Good Stock Trade

I claim the only meaningful measure of a single trade is how well you followed your plan. That’s it. Many traders today have lots of good information available to them from the outset. So, they start trading the first day with a winning system in hand. But, see Van Tharp’s posts about how often traders take a winning system and lose with it, just by making mistakes in their execution.

How many beginning traders experience a drawdown, and immediately start changing up their systems and strategies? Before you even think about making changes, I urge you to at least prove to yourself that you’ve actually been following the strategy you intended to follow. After all, you are the fallible human in this equation! Execution and judgement errors should always be your first line of inquiry, but you can only do that investigation if you have some data. So, why not take a look at my post about the anatomy of a trade (or Bill Rempel’s post about the aspects of a trading system, if you prefer)? Take those steps, and grade yourself on each trade with them. Based on my article, you might form a checklist like this (or customize one specifically for your trading style):

• Were you trading a stock you were supposed to be watching?
• Did the stock set up according to your rules?
• Did an acceptable entry materialize, after the stock set up?
• Did your position size match your plan?
• Did you manage the trade according to plan?
• Did you do proper post-trade record-keeping?

Try to get to the point where the answer to each question is always a confident “Yes.” Answering the questions will make you own up to the time you traded too big to catch up on your P/L. The time you bought into the high-risk entry because you hadn’t spotted a good trade all day. The time you pulled your stop because you were sure it’d come back. The time you traded a stock you didn’t know, because your friend pointed out it was hot today.

In every one of those mistake cases, you might have made a lot of money. Buckets of it. No matter! You still have to give yourself a bad grade, and try not to do it again. Deviating from your plan means you are trading an unknown system with uncertain expectancy. It’s a sure way to lose in the long run, even if you happened to win big this time. That can be tough to swallow psychologically, but it’s the truth, and if you want to survive as a trader, you had better recognize it.

I’ve never logged questions like the ones above formally, but I wish I had. I do have a Mistakes category in this blog, where I try to tag trades where I feel I’ve erred. If I didn’t tag it as a mistake, I am saying I would take the same trade again tomorrow, whether it was a win or a loss.

I should add that, even if you are the most discretionary of the discretionary traders, I think you can do this exercize. You ought to be able to give yourself an honest answer about whether you considered all the factors you really should have, etc. The answers will be fuzzier, the more discretionary you are, but you can still spot glaring execution mistakes and bad judgement.

Summary

There are at least two time scales on which traders can measure performance. Across a large sample of trades, we can (and should!) use expectancy and other statistical measures to judge our progress. Performance in the small, however, is best judged in terms of how well we executed our plan. It’s entirely possible that the best trade you ever made went swiftly, and immediately, right to your stop. Just as your losing trades can get a perfect score, your winning trades can be riddled with mistakes. Mistakes and deviations from your plan mean you are trading an unknown system with uncertain expectancy. That’s a sure way to lose in the long run.

I had a pretty unremarkable day today. I took two trades, and both of them took on the same pattern. Made a total of 0.45 R. My current R is about 1% of my account, so less than 0.5% equity increase today. :-(

First, I got into Rambus, Inc. (Nasdaq: RMBS), on the break of 18, but it just sat there. The markets were rockin’ right along with nice TICKs and volume, but RMBS gave out on me. So I got out for 0.08 R (enough for me to eat at Chili’s, and have an alcoholic beverage or two). So, basically, a non-event. Not bothering with the chart on that one. I should point out, it did eventually move my way, but it was like an hour later, and I’m glad I didn’t wait. Not the kind of trade I’m interested in.

The other trade I took was on Centex Corp. (NYSE: CTX), when it set up rather nicely (if I do say so myself) under 52. But, again, it pushed through and just sat there. Even fell back to the 51.80’s. So, this is the worst part of my generally wonderful day… getting into a second trade that had a nice setup, and good volume, and nice market context, and then… nothing!

So after RMBS I decided I might as well sit there and watch it stagnate for 40 minutes. It finally made a move again, at that point. Great! My normal procedure when a stock breaks through a big number is to watch for an over-enthusiastic move. You know, the overly vertical ones that you’re pretty sure won’t hold up? I generally bail near the top of those, if I can catch it. So, I cancel my stop, and I’m watching to see whether I need to put my stop back on, or jump out.

I wish I could say something amusing, like “I sneezed,” or “my cat jumped onto my keyboard,” but the truth is, my finger just twitched. Next thing I know, I’m out of the trade. That’s the first time in all my trading that I’ve accidentally issued an order like that. At least, I don’t remember any other times. So, I got out with 0.36 R in the middle of a nice move. It was just one of those days, I guess.

Here’s the CTX chart (click to enlarge):

Regarding the Markets
I’m pretty sure I’ve noticed that the last three or four options expirations weeks had bullish rallies. That doesn’t seem like a coincidence. All in all, it seemed like the indices and the TICKs were telling me what a strong market we had today, but the stocks I was watching told a different story. Not a lot of movement during the day, that I was seeing. Trade-Ideas wasn’t telling me about too many stocks with massive volume, either.

[Edit: after reading several blogs, I guess I have to come to the conclusion that it was just an off day for the high/low breakout stocks I had chosen to watch. Several people mentioned that stocks were really moving. Oh well.]

Stocks Mentioned In This Article
Stock	Links
RMBS	| |
CTX	| |

If you want to see how I only wish I had played Akamai (Nasdaq: AKAM) today, check out today’s post at Wall St. Warrior. My goodness… it puts my little AKAM scalp to shame. I was only playing the break of 42, while it appears this trader played the run up to 42 as well. I’ve often wondered if I should try to do that, as it seems the price naturally runs right up to resistance, whether it breaks or not.

Anyway I’ve seen Wall St. Warrior in people’s blogrolls, but I haven’t had a chance to check out the blog yet. It’s got my attention, now, though! I’ll be reading through it as time allows this week, and seeing what it’s like. I saw the article I linked above while vanity searching, of all things (we’re both linked from google finance’s page for AKAM today, due to our blog posts).

Stocks Mentioned In This Article
Stock	Links
AKAM	| |

I’ve been waiting for Akamai Technologies, Inc (Nasdaq: AKAM) to break 42 for a long time. After this morning, I was pretty sure I’d be waiting at least another day. But, as luck would have it, the markets completely turned around by 11AM or so, and I had my chance.

However, while the setup was great, this one really stretched my criteria for entry. There was no good, tight stop available, since the stock broke from the 41.85 area, rather than just under 42. The most reasonable stop I could see was like 60 cents from my 42.14 entry. Way too wide for my risk:reward tastes… it wasn’t a foregone conclusion that it would run past 43 by the end of the day. Not in my mind, anyway.

So, I nearly passed, but decided I could at least get in and out quick with some profit. Here were my three reasons why:

• I knew a lot of traders must also be watching this obvious 42 level, since the stock’s been trying to break it for weeks. So, there was bound to be a mass of excited buying for a bit.
• The markets, for whatever reason, had turned extremely positive right about at my entry time. I saw the NYSE TICK hit 2500 several times, without the usual resultant selling.
• BIG relative volume on the break of 42.

(although I admit part of it was that I had waited too long on this stock to not put some kind of play on… I’m only human.) So, I picked the somewhat arbitrary 41.99 stop, and planned to essentially ride the initial wave of enthusiasm. That’s exactly what I did… in and out in 75 seconds for 1.6 R of profit. Had I stayed in, I would have made a lot more money, but that wasn’t the kind of trade I felt comfortable making.

Here’s the chart (click to enlarge):

I did plan to get back in on a pullback that would have provided a low-risk entry, but I didn’t really see one that thrilled me before it got too late in the day to consider it.

A Case of the Mondays
Oh, well. It was a profitable Monday (100% win rate, too), so I can’t complain. A prototype StockTickr report, not yet public, tells me my expectency by day of week. It confirms what I pretty much knew… I suck on most Mondays! It’s my lowest expectancy weekday, historically. If I were to guess why, I’d say it has to do with remaining hangups I have about wanting to be profitable each week. I don’t want to start the week in the red, and the extra pressure hurts my decision-making, maybe? Or, maybe, I am just out-of-synch with the markets after the weekend break? Regardless, it’s interesting information.

Stocks Mentioned In This Article
Stock	Links
AKAM	| |

It was a both a good morning and a bad morning for my daily screens. Good, because we saw a lot of stocks meet their targets. Bad, because most of them did not meet my criteria to get into trades. It’s entirely possible that, once again, those of you that trade differently than I do, made a lot more money off my scans than I did!

Still, I did take two trades today, the first of which was on Celgene Corp (Nasdaq: CELG) (click to enlarge):

It was maybe a little earlier in the day than I like to trade, but the narrow-range bars looked decent to me. More importantly, they gave me a decent stop. See how even that big up move on the 10:50 candle wouldn’t have even quite reached it? That’s a good stop!

The markets were negative at that point, so I got in. I got back out at the first sign of trouble, and the rest of the day’s action made that look like the “obvious” right choice. At the time, though, I was wondering if I hadn’t just left a lot of profit on the table. That’s the way it always goes.

With experience (and especially since I’ve been taking living expenses out of my trading account), I’ve come to favor consistency over bigger potential profits. It’s a trade-off everyone has to make, at the point where they feel comfortable.

I’m always extra cautious on the biotech stocks, though. They tend to whip around all over the place. I’m not sure why… probably just rampant speculation… but they all seem very difficult to trade well. When I was just getting into daytrading, my favorite stock was Briocryst Pharma (Nasdaq: BCRX), because if you got lucky you could make a ton of money in seconds. But, sometimes the same-sized move would be against you, which wasn’t so fun. So, I’m antsy with the biotechs. Amylin Pharmaceuticals (Nasdaq: AMLN), for whatever reason, seems to be the most well-behaved of them, for what it’s worth.

Stocks Mentioned In This Article
Stock	Links
CELG	| |
BCRX	| |
AMLN	| |

“I need a drink.” And I didn’t mean water… Breathing quick and shallow breaths, I made futile attempts to massage out the tension in my neck and shoulders. My shoulder muscles in particular were burning from the prolonged strain. My fingers were tapping nervously on the table almost as fast as my heart was pounding nervously in my chest. As I hunched forward, the pin-point stinging in my eyes told me I had forgotten to blink for too long. Was I diffusing a bomb? At gun-point? Nah… just tradin’ some stocks.

This is the third installment of the Evolution of a Trader series. It’s a series about important learning experiences I had while developing as a trader. I spent a lot of money on these lessons… I hope you don’t have to! If you are new to the series, you might want to check out the other entries.

The Ideas
The opening paragraph is no exaggeration. I used to be a real mess during my trades. Around November of 2005, when I used to hang out in trading chat rooms, we all used to joke about the stress of trading. We’d say “looks like the markets are calling for the hard liquor today,” or the classic “looks like I picked the wrong week to stop sniffing glue.” At least, I hope we were all joking. It was fun to chat about, but the stress was very real, and clearly not healthy.

As soon as I put on a position, I would immediately grow tense and fixated on the chart. Even when the stock had moved in my favor, I was just sick watching for any sign that I should get out. So, I started looking for ways to counteract the problem.

I’m not ever content to just theorize… I prefer to try things out, even if they seem ludicrous. Some ideas I tried include:

• Stretching and light aerobics before trading. This way, at least my muscles were loose and relaxed prior to the stress onslaught. After a few minutes, though, that benefit was long gone.
• Stretching and light aerobics during trading. I had some success with this, but it kept me from doing any real typing while trades were on, which hurt my productivity. Also, I was still under the same amount of stress; I was just channelling the energy a bit.
• Moderate alcohol consumption… as in a couple glasses of wine early in the trading day. What can I say… I guess we joked about it until it started to sound like a good idea! I found that I could get just as worked up during the stressful times, so it didn’t really help. Worse, during the boring times, my attention would drift. (an aside: I had this cabernet last night, and thought it was pretty good)
• Meditation. I did this already, but at night. I tried fitting in some meditation before the trading day, to see if that would help. Like pre-trade stretching, this helped me go into the day nice and relaxed, but the effects wore off pretty quickly.
• Listening to music during trading. I tried a variety of styles, with no discernable benefit. During a stressful trade, I was tuning the music out. During the boring times, it was a distraction. Also, a big part of my trading style back then was watching the tape, and getting in synch with the action. I found that music interfered with my ability to do that, because I would inadvertantly correlate the ebb and flow of prints with the rhythms in the music!
• Trading in a massaging chair. I found that, when stressing out over a trade, the little massaging motors were more painful than soothing. But, when not trading, I love that thing.
• Trading on more sleep, and less sleep. The ideas were “I’ll be fresher,” and “I’ll be too tired to care,” repectively. Wrong, and wrong.

How I Overcame My Stress
As usual, though, I was taking completely wrong approaches. I was attempting to treat the symptoms, and not attacking the cause of the stress and anxiety itself. I guess, at that time, I felt like tension and stress were a part of trading that needed to be accepted. After all, one of the traders in Stock Market Wizards had an aneurysm, and Pit Bull recounts Marty Schwartz’s trading-related health problems. I could cite several more examples. However, I no longer think extreme stress is a necessity.

At some point early in 2006, I happened to notice that I was under a bit less stress than before. Something had obviously improved, and that was the catalyst that got me really thinking hard about what could have changed. I tried to go from there to identify the real root causes of all that tension. Here’s what I came up with (this is an actual text file I saved off on my hard drive, somewhat edited for presentation here):

1. Too much focus on reward, too little focus on risk. One bad trade could erase several days of profits. (I’ll be making a subsequent evolution post to cover this topic fully).
2. Not enough confidence in the setups I was trading.
3. Trading too much of the noise, and not enough of the bigger stock moves

The big stress-reliever that I had already experienced came from addressing issue #1. I had recently achieved a much firmer grasp of risk:reward ratios, and the concept of risking a fixed % of current equity per trade (for more on these topics, see articles such as this one and this one, among others). By controlling and understanding my risk better, I felt more in control of my trades. I felt like my perfomance was more predictable. Therefore, less stress.

Items #2 and #3 were other stress factors I thought up in my brainstorming. It seemed reasonable that if I could systematically address these, I could further reduce the problem.

So, to improve my confidence in my setups, I implemented a backtester, and also started keeping close track of my trading expectancy. It is soooo much easier to face a trade that’s going against you, when you have some reason to believe that you will make the money back (and more!) soon, trading the same way. Think about that… that’s powerful knowledge to have. I also did more thinking and reading about the chart patterns that are the basis for a lot of my trades. I tried to gain a deeper understanding of the market mechanics that make them work. I find it’s easier for me to trade against what I think market participants are doing, and harder for me to trade against what looks like a “head and shoulders” shape on a computer screen.

Over time, I came to realize that Item #3 (regarding trading noise too often) was a valid concern. Really, it’s a close relative of Item #1 (poor risk control). I still, even today wake up sometimes with the notion that I should throw some money at the opening volatility. I wake up literally imagining the killing I could make, in detail. I guess the memories I have of making $1200 in a couple seconds are just too sweet to kill. On the other hand, I have to look at my old trading records to remind myself that I lost $2000 or more just as often on the same silly trades. Selective memory is deadly! But, aside from that, I was making a lot of trades with a goal of picking up a few cents on a wiggly $90 stock. That’s a miniscule move on a $90 stock, and can happen at random, in an instant. It was too unpredictable, and too hard to control my risk properly. My expectancy record keeping made it clear that I had to stop making trades like this. Though they don’t spark my imagination like those opening-minutes trades, I still want to trade noise sometimes, too. But, I know better now, and I have the facts to back me up, so I can resist.

Making these adjustments, and working on my overall workflow so that it fits my personality better, has dramatically reduced my in-trade stress. I no longer feel like I am doing myself physical harm by trading. It’s also just a lot more fun, this way!

Summary
I think a lot of beginning traders feel like high stress is an unavoidable cost of doing business. To some degree, trading is going to be stressful, true enough. However, if you have a stress level anywhere near what I described above, you need not suffer through it. In my case, it took me a long time to realize that I could attack my stress, head-on. You don’t need to wait like I did. Get to the root cause of your tension, and address it. I would wager that in many cases it boils down to the same two issues I had: a lack of confidence, and poor risk control.

Introduction

In this article, I’ll take you all the way through all the parts of a stock trade, from start to finish. I’ve had a number of questions in email recently about aspects of stock trades that I’ll cover here, and it strikes me that a lot of people may not have a handle on the total picture. As a result, I think a lot of beginning traders skip or confuse some important steps.

Even if you’ve been trading a while, it might be fun to read through the stages I outline, and see if you can identify similar steps in your trading. If some are missing for you, or are just aspects of a trade that you “play by ear,” then that is a possible opportunity for improvement and growth. I hope this helps some people out. I’ll keep the discussion broad enough that I feel it covers most trading styles.

The Watchlist

Before you can trade at all, you have to be looking at stocks. Which stocks you look at is up to you… just put some thought into it and have a plan of some sort. Maybe you trade stocks for companies you know. Maybe you specialize in a sector. Maybe you watch the most actives. Maybe you use a real-time market scanner to watch the entire market. Might I humbly suggest you take a glance at my stock market scans?

One guideline is in order, though. The shorter the timeframe you want to trade, the more liquidity (think: volume) you are going to want. Especially if you are a day trader, you need lots of shares to be changing hands so that you can get in and out without too much slippage. I’ve seen books say day traders want stocks that trade at least 300,000 shares a day. I think that’s a terribly low figure, considering how many good stocks trade more than a million shares a day. Stick with the million plus stocks.

The Setup

Ok, so you’re watching stocks, but what are you looking for? The setup is the context for a possible trade. In general, you should know what kinds of conditions are best suited for your trading style. Here are a couple example setups:

• Stock is making a new 30 day high/low after a five day bounce (this is the setup that my daily scan here watches for)
• Stock is trending up, and is above its 8, 20, and 50-day EMAs. Also, the 8 EMA is above the 20 EMA, and the 20 EMA is above the 50 EMA. This is the kind of setup advocated in Short-Term Trading in the New Stock Market, for example.

Setups can be as complicated and explicit as you like. I personally use several more criteria on top of that first example when trading that type of setup. For instance, I like to see unusually strong volume, and no significant nearby resistance, and a similar looking move across the stock’s sector, etc. I am very demanding, which is why I only traded about 16 times in August. That’s perfectly okay… you don’t have to trade every single day to make a living.

Entry/Exit Criteria

Alright, one of your stocks is setting up nicely. Time to trade, right? Not at all. A good setup just grabs your attention… before you trade, you have to identify a good entry point. In fact, many good setups will not produce a trade at all, because there was no good entry available. So, let’s talk about what makes a good entry point.

The entry criteria for most traders are simpler than the setup criteria. Remember, if a stock has set up, it’s already basically doing what you want it to do. At that point, all most traders want is a good risk:reward place to get into a stock. Ironically, this means that the quality of the entry point is almost completely determined by the location of the worst-case exit point, or the stop loss price. In general, traders are looking for stops very close to their entry, since this produces better potential risk:reward ratios. To learn more about what risk:reward ratio is right for your trading, check out my article on that very topic.

Here are a couple examples of entry criteria:

• The stock has just broken the high of a narrow, inside 30 minute bar. The stop will be just below the low of that narrow bar. This makes for a nice, tight stop. It must also be early enough in the day that the stock has room to run at least 2 to 3 times that far in our favor. This is what I think of as the dummy trading entry criteria, though I may be oversimplifying.
• The stock has broken through resistance on high volume, and that resistance has become support after a drop back to that level on low volume. The stop will be just below the new support line, once the stock has started a new upward move. This makes for a very tight stop, which leads to good risk:reward characteristics.

There are a number of reasons to chose a stop prior to making the trade. First and foremost, it defines the risk side of the risk:reward ratio. Notice all the emphasis on finding a tight stop in the criteria above? Secondly, it’s harder to think rationally about your stop once you are in the trade. Therefore, it’s best to chose it beforehand, and only move the stop in your favor once the trade is on. Third, as we will see below, the stop value plays an important role in choosing your position size.

While I think it’s crucial to most trading styles to define your risk at this point, I’m a lot less adamant about chosing a profit target. Some traders do, and some don’t. All good traders have a clue about their risk:reward possibilities, though, so you want to at least determine that you think the stock could reach a good risk:reward profit amount. But, whether you choose a strict target or just decide the stock has enough room to run is a personal choice (or perhaps a trading system choice). A lot of traders–myself included–prefer to pick soft profit targets, and monitor the tape to get out early at possible market turning points.

Incidentally, many traders refer to their initial risk as “R,” and talk about their results in terms of multiples of this amount. For example, if my stop is 20 cents below my entry, and I am stopped out, then I say I have a -1 R trade since I have lost my full initial risk. If instead I make a 40 cent profit, then I have made 2 R, since I have made twice my initial risk. Sometimes we also refer to the dollar amount that we risk, or the percent of our equity that we risk, as “R.” When you think about it, it is all just different ways of saying the same thing. I like the cents-per-share characterization, because it makes it easy to calculate what price represents a 3 R gain in a trade, for example.

Choose a Position Size

Since you know where your stop is by now, choosing a position size should be easy if you know how much money you want to risk on the trade. For instance, if your stop is 10 cents away from your entry, and you want to risk $300, then you can buy 300 / 0.10 = 3000 shares. Simple division.

How do you know how much you want to risk, per trade? It’s a personal choice, but I generally suggest you always risk a fixed percent (I prefer 1% or less) of your current equity. So, if you have a $30k account, at 1% you’d want to risk $300 on each trade. I update my risk amount every $1000 dollars. So, say the example account grows to $31k. I’d start risking $310 per trade. Or, if a losing streak takes it down to $29k, I’d start risking $290 per trade.

For a more detailed explanation of the reasoning behind risking a percent of your current account size, you might want to read my article on choosing the right amount to risk, per trade, to fit your personality.

Now for a bit of a digression: About once every couple weeks, I get an email saying “Why pick a stop and then determine position size? I’d rather pick a position size, and let that determine my stop.” In other words, for example, a trader might like to always trade 1000 shares, or maybe they always buy as many shares as they can afford. Taking the 1000 share example, then knowing they want to risk $300, they can determine their stop location. They should put their stop 300 / 1000 = 30 cents below their entry, in that case.

It seems lots of beginning traders like this “size-first” idea, perhaps because they don’t like it when the “stop-first” method tells them to buy only 150 shares. However, I think the “size-first” method is inferior in just about every way. Why? Because if you let position size determine your stop, then your stop will be in an arbitrary location on the chart. Think about it: why would you wait long, excrutiating hours for precise setup and entry criteria to materialize, and then throw out a stop wherever it happens to fall? Doesn’t sound right, does it?

For just about any trading style, you want to the stop to be at a price that would invalidate your criteria for entry. So, if you are trading a break of resistance, then the stop should be a healthy amount below that resistance. That way, if you are stopped out, it is because the break you were playing didn’t hold. It makes sense to get out when the trade is no longer good, right? It’s also very easy to obey a stop that signifies a misbehaving stock. Don’t underestimate that benefit!

Consider if you took that same break-of-resistance trade “size-first”, and your position size says your stop should be 12 cents below entry. If that 12 cents happens to be above or at the resistance point, you will be stopped out with a much higher probability. Your win rate would suffer. Worse, an arbitrary stop invites you to ignore or move it when a trade goes against you. Since that 12 cent example stop has no meaning, you might convince yourself that the stock could turn around if given a little more wiggle room. This happens to traders all the time, and they end up pulling their stops. Many of those traders do not end up trading much longer.

Make the Trade

This is the moment you’ve been waiting for! Put an order in the market, and get in the action! Some traders get in all at once, while others scale into trades across several orders. Do whatever fits your system and your personality best, and do factor in the increased overhead cost of multiple orders if you go that way.

I generally use market orders, because I am trading very liquid stocks, and I want the fastest fill possible. Many traders prefer limit orders, which is also fine. Do whatever works for you, but do it fast: you’ve been waiting so long for the perfect opportunity, it’d be a shame to let it get away.

Here again, I can give a few guidelines. There are two ways to use limit orders. One way is to try to get a slightly better price for the stock. So you buy with a limit at or below the bid (alternately, sell at or above the ask). You can get away with this if the stock price is wiggling around a bunch, but not really moving in a direction. You take a small risk of not getting filled, but you’ll get a slightly better price this way (especially if the bid/ask spread is more than a couple cents). I rarely do this, because the setups I trade tend to produce fast movement.

The other way to use a limit order is to avoid getting filled at a bad price. In a fast-moving stock, issuing a market order can mean a fill 10 cents or more away from your desired entry. To avoid this, you buy with a limit a couple cents above the ask (or sell a few cents below the bid). With this kind of limit, you will either get filled at an acceptable price, or not at all. I’ve seen people get confused and ask why you would ever pay more than the ask, but recall that a limit order gets filled at the limit or better.

Trade Management

As with the watchlist step, there’s not much I can say here, except “have a plan.” If you picked a hard profit target in the previous steps, then your trade management is simple: exit at your profit target, or your stop, whichever is hit first. Other styles will require more active monitoring to determine exits. Some traders will scale out of trades, while others get out all at once. As with entry, do whatever fits you and your system best.

I have to take this opportunity to say one more time: obey your stop. If you only do one thing right, let it be that. If you obey your stops (and you risk a reasonable amount per trade), you will have time to fix just about anything else you are doing wrong. It’s by pulling stops that traders end up losing their shirts (and houses, and spouses). What’s worse is when a trader tries pulling their stop, and the stock happens to turn around for big profits. Please don’t let that fool you.

Another good rule of thumb, which may not be applicable to all trading styles, is: don’t let a profit turn into a loss. This doesn’t mean you should move your stop to break-even if the stock moves one cent in your favor. That’s too extreme. But, protecting some of your profit once you have made a healthy amount is usually a good idea. Many traders chose to move up their stops when they hit 1 R of profit, for example.

Record-Keeping for Stock Trades

Other than obeying your stop (have I mentioned that, yet?), this is probably the most important aspect of a trade. A certain amount of record-keeping is mandatory to do your taxes properly, but that’s not really the kind of information that I’m referring to here.

It’s simple, really: obeying your stops gives you time to improve, and detailed records give you the data you need to improve. What are good details to keep? On top of the normal entry/exit/profit, I suggest a combination of:

• Whatever detail is relevant to your trading style. Ideally, you should be able to look at the information you’ve saved off, and decide all over again whether you would enter the same trade today. So, if you trade MA crossovers, then save off a chart that has the MAs on them. If you trade broken resistance, save off a chart that shows where you thought the resistance was.
• The overall market context. Things like sector charts, or QQQQ/DIA/SPY charts, are good. This way you can review how the overall market impacts your trading system. It can also tell you whether a market turn did you in (or, alternately, saved you!), or if it was an aspect of your system’s criteria that was bad.
• Your thought process during the trade. Write a paragraph about what you were thinking before, during, and after the trade. Try to write this ASAP (I do this just after the market close whenever possible). After a week or so, you will be able to objectively review what you were thinking, and identify errors in your judgement.

I focused above on finding errors and mistakes, but you can also review and reward yourself for trades gone well. Or, even when trades are good, you might be able to spot ways to make them better.

This record-keeping process can be tedious. At StockTickr, a service I use and contribute to, we are doing what we can to automate collecting this data and facilitating R-based performance review. You can see that here when I review my trades and performance… all those charts are collected and annotated automatically for me, as well as reference charts of the indices for that day. It’s a big time-saver. We’re also adding a number of reports that let you see your performance over time from different perspectives.

Besides per-trade records, I also suggest keeping a record on the side of anything that bothers you, or makes you especially happy. You don’t like getting up so early? Write it down. The biotech stocks you are trading are too jittery for your nerves? Make a note of it. As I described in this article, you can use these notes to shape a trading plan that fits your personality better. Sometimes, you don’t know what kind of trader you are until you actually jump in and try it. By noting what you like and don’t like, you can periodically review and improve your trading “lifestyle.”

Summary

Trading is a little more involved than “buy low, sell high.” Here, I’ve tried to outline all the steps that are part of just about any stock trade. I’ve also tried to give some guidelines and rules of thumb, without making the article too specific to any one trading style. It is my hope that traders (especially new ones) go through this list, and identify the aspects of their trading that fit these stages. Making sure all your bases are covered will give you a leg up on the majority of amateur traders out there.